McLEAN AND CO SEPTEMBER 2004 NEWSLETTER PAGE 2     

 LET THE BUYER BEWARE  

When investment returns are more modest, investors are invariably tempted to consider higher interest alternatives.    However, be sure to look before you leap.    If an investment sounds too good to be true, it may just be.   McLean and Co., and no doubt many of the readers, have received a number of emails from "official" sounding people from the likes of Nigeria and other African countries.  They say they only want your bank account number and in return promise to make you a millionaire.   However, once you are involved, they will require large "advance fees" from you in order to "complete the deal".   People here and overseas have lost thousands of dollars buying into these schemes, so beware.   According to the Securities Commission, reports of investment schemes promising high returns are increasing.   "Uncertainty in the sharemarket creates an attractive climate for the peddlers of illegal investments such as prime bank schemes," Chairman Jane Diplock said.     "Their offers of high returns from secret schemes seem very attractive.   They are often entered into by people who otherwise consider  themselves prudent investors but who are lured to these scams by the interest rates offered."   People should be wary of so called investment schemes which:

·         have no investment statement or prospectus.

·         promise very high returns

·         say the scheme must be secret in order to succeed.

·         give a few or no details about the issuer and how the money is to be invested

·         are "private" offers open only to a select few

·         claim that the investment is "safe" or "risk free"

·         refer to "top world banks" or "prime banks'

If you are approached with an investment that is too good to be true, you can see if it listed about dubious investment schemes published on the Securities Commission website,  www.sec-com.govt.nz

FIXING OR FLOATING YOUR MORTGAGE 

When property investors make this critical financial decision, they normally make one of three choices:

One of the normal consequences of a fixed rate mortgage is that if you break it or if you pay it off earlier you are liable for early repayment penalties.

Even profound economists are unable to consistently predict every event that may significantly influence interest rates.  So how do we continually get the lowest possible interest rate on our mortgage.   The short answer to that is- we can't.   

If we do choose to simply take a long-term low fixed rate, we are exposed to the risk that when our fixed rate expires, we may face a large rate increase, which we may not be able to afford.

Many people opt for a floating rate (when floating rates are low) and sometimes will incur early repayment penalties to break fixed rates so they can enjoy a lower floating rate.  Their intention is usually to watch interest rate levels and take a fixed rate if rates start to increase. This reflects a somewhat short-term to a long-term mortgage commitment.  If interest rates start to increase, for example, and you take a fixed rate, you may find a few months later that those rates are back down- or worst still, considerably lower than when you decided to take a fixed rate.

Other people split their mortgage between fixed and floating in an effort to minimise a total exposure to the risk of floating and  fixed rates both rising.

      McLEAN AND CO SEPTEMBER  2004 NEWSLETTER PAGE 3     

 ENTERTAINMENT  

Having trouble deciding which expenses are 50% deductible and which are 100%.   It pays to check the detail in IRD Publication IR268.   Here are a few guidelines:  

50% Deductible:

·         Presents to customers which are food and drink

·         Entertaining customers or staff at your office

·         The corporate box at a sports venue

·         Travelling expenses incurred getting to and from a staff party

·         Food and drink when out of town entertaining a client

·         All business lunches for clients

100% Deductible:

·         All expenditure incurred overseas

·         Food and drink for your staff either as normal morning or afternoon teas or working lunches

·         Food and drink for employees while travelling overseas.

HAVE YOU CONSIDERED?

Why the sun lightens our hair, but darkens our skin?

Why women can't put on mascara with their mouth closed?

Why don't you ever see the headline "Psychic Wins Lottery"?

Why is "abbreviated" such a long word?

Why is it that doctors call what they do "practice"?

Why is it that to stop Windows 98 or XP, you have to click on "Start"?

Why is lemon juice made with artificial flavour, and dishwashing liquid made with real lemons?

Why is the man who invests all your money called a broker?

Why is the time of day with the slowest traffic called rush hour?

Why isn't there mouse-flavoured cat food?

When dog food is new and improved tasting, who tests it?
 
Why do they sterilize the needle for lethal injections?

You know that indestructible black box that is used on airplanes?
Why don't they make the whole plane out of that stuff?

Why don't sheep shrink when it rains?

Why are they called apartments when they are all stuck together?

 If flying is so safe, why do they call the airport the terminal?  

      McLEAN AND CO SEPTEMBER  2004 NEWSLETTER PAGE 4     

DOES BUYING A HOME ALWAYS BEAT RENTING?

There are a lot of other good reasons to own a home. One of the best, financially speaking: the chance to benefit from appreciation as the value of your home (one would hope) rises through the years.  In fact, if you’re like most people, buying a home can be the smartest financial decision you’ll ever make.

Source: VIP Forum, Federal Reserve Board , USA

Homes create wealth in two ways.

First, most mortgages require you to pay down your balance over time, creating a form of “forced savings.” Even if your home never appreciates at all, you gradually build up more equity over time with your payments.

Most houses typically do appreciate in value. And thanks to your mortgage, you get to take advantage of that appreciation using leverage. That means using a little of your own money, plus a lot of someone else’s money (in this case, the mortgage lender’s) to make even more money.

How your mortgage helps you build wealth?

Here’s how it works. Say your $170,000 home appreciates at that 6% annual rate. In 10 years, your house would be worth more than $304,000. That means your down payment -- $17,000 -- would have grown to equity that equals $151,000.   The growth in your home’s value represents a return of 24% a year on your original investment.

Even if you subtract maintenance costs of 1% or 2% of the home’s value each year and throw in another 1% for higher insurance and utility bills, you’re still looking at a return of more than 16% a year.

But this calculation also comes with possible negatives:

COMPANY ANNUAL RETURN FILING FEES

From 1 July 2004 there are two significant changes for Companies Office clients:

·          Online Annual Returns are free.

·          If you file the return hard copy the fee reduces from $30.00 to $15.00.

      McLEAN AND CO SEPTEMBER  2004 NEWSLETTER PAGE 5     

FINANCIAL MANAGEMENT

Statistics show that  90% of businesses fail within 10 years. If you've been in business for 10 years you probably don't have to read any further!

The reason for an overwhelming majority of business failures is faulty financial management.   This includes “no financial management”. If you run your business by ‘gut feel' alone you are cruising for a bruising. Unless you are a financial genius, it is statically proven that it is rarely possible to stay in business running on ‘gut feel' alone.  

So  what is financial management?  Some will say it's “ having enough cash to pay your bills ” and others say it's about “ making a profit ”.   Both are equally as important.  Cash can only come from profits and profits can only come from cash . It is easier than you might think to be making a profit… but not have any cash.  For example, you can get so involved in selling and making stuff that you forget to invoice on time and collect debts quickly enough.  Suppliers will surely remind you of your obligation to pay them but customers will never remind you to send them an invoice. You need a systematic approach to debt collection and invoicing .

However, before you think about invoicing and debt collection, you need to be sure that what you are selling is priced right .  There is no point in selling stuff at a loss in the long term.

How do you ensure what you are selling is priced right?  The first thing you need to do in business is to know what it's going to cost to run the business and therefore how much you need to sell to break even . Many businesses go horribly wrong, by plucking a figure out of the air as a sales price and hoping they sell enough to cover costs. This may work for a short while but will cause business death in the long run.

Selling more at the wrong price and without good financial controls in place can be a deadly business. Often when you sell something you don't get paid immediately, so that the more you sell the more cash you need to cover the increased costs until you get paid for the sale.  In accounting terms this is called the Financial Gap .  While you are making increased sales, your overheads are also increasing, and if you don't get paid immediately you could find yourself in an unexpected cashflow crisis.  So, before you embark on a business growth plan it is essential to also incorporate a funding plan to ensure your growth is sustainable and viable.

A vital part of any growth plan must be a budget .  A budget is a prediction of what you believe is achievable in terms of sales and expenses for a future period (usually the financial year).  A budget is important because it helps you work to a plan.  Budget figures can be entered into most accounting systems and printed on a Profit and Loss Report so that comparison can be made to measure how the business is shaping up to the plan.

IRD PHONE NUMBERS  

The following are the toll free IRD numbers for phone enquiries.   IRD have staff available to answer these 8am-8pm weekdays and 9am-1pm Saturdays:  

GST.........................................................  0800 377 776

Employers...............................................  0800 377 772

General Business Tax Enquiries............   0800 377 774

Overdue Returns.....................................  0800 377 771

Payment Options for Overdue Tax.........   0800 377 771  

      McLEAN AND CO SEPTEMBER  2004 NEWSLETTER PAGE 6    

WHAT IS AN LAQC?

One of the possibilities as an  ownership vehicle of  investment property is a Loss Attributing Qualifying Company (LAQC). This may or not be ideal depending on circumstances, and can provide flexibility in the ownership structure.   An LAQC is simply a standard limited liability company, which takes on a tax election, to give it Loss Attributing and Qualifying Company status with the Inland Revenue Department.

This regime is only available to companies with fewer than five shareholders. It was introduced to try to make the taxing of small family companies similar to that of partnerships. It has provided an excellent flexible structure for property investors.

Where there is a tax loss, as is the case in many negatively geared situations, the tax loss can be attributed back to the shareholders in the company in proportion to their shareholding in the company.   Thus planning prior to the incorporation of the company is important, as there may be an advantage in the highest income earner holding a major shareholding in the LAQC to maximise the benefits of any tax losses. 

An LAQC offers the possibility to restructure the ownership of the company  without necessarily having to incur recovery of depreciation on sale of the actual property itself .

Capital profits made by the company on sale of property can be distributed to shareholders tax-free, by paying an exempt dividend from the capital gain.

It should be remembered that assets and liabilities of the LAQC are attached to the shareholders and shareholders accept personal liability of any liabilities that the LAQC may have e.g. loans, income tax liabilities.   

TAX AVOIDANCE INVOLVING LACQs AND THE FAMILY HOME

Inland Revenue has noted with concern that a group of taxpayers are selling their private home to a loss attributing qualifying company (LAQC), and then claiming tax deductions.

Selling your private home to a LAQC in order to claim a tax deduction for what are really private expenses, may be tax avoidance in some cases, says Margaret Cotton, of Inland Revenue.

"Unfortunately, some investment advisors are telling their customers that they can claim a tax deduction by selling their residential property to a loss attributing qualifying company, renting the property back from that company and claiming a tax loss," said Ms Cotton, National Manager of Technical Standards.

"Inland Revenue considers that such arrangements will often be tax avoidance for the purposes of income tax," she said.

Ms Cotton explained that Inland Revenue is currently considering several cases where a LAQC has been used to buy a residential property that the shareholders will rent as their residence.  Even where a market rental is paid to the LAQC, a tax loss can still be generated to the advantage of the shareholders.

Where tax avoidance is proven, the taxpayer must pay the tax avoided as well as a penalty of 100% of the tax avoided. Use of money interest will also apply.

Ms Cotton says that if taxpayers are concerned about their position in respect of these arrangements then they should contact their local Inland Revenue office or seek professional advice.  

McLEAN AND CO SEPTEMBER  2004 NEWSLETTER PAGE 7    

PROPOSED CHANGES TO THE DEPRECIATION RULES

 On 12 July 2004 the Inland Revenue Department published an Issues Paper regarding proposed changes to the depreciation rules.  The publication of this paper was anticipated after various announcements from Dr Michael Cullen over the last six months that aspects of the depreciation regime were going to be reviewed.

There are a number of specific changes that are outlined in the depreciation paper, but the major changes are as follows: 

Long Life v Short Life Assets

The Paper draws a distinction between assets that can be considered short life (i.e. plant and equipment) and those assets that can be considered long life (i.e. buildings) and suggests that short life assets might be better off being depreciated on a double declining balance basis and that long life assets are better off being depreciated on a straight line basis.  If these changes were adopted then the depreciation rates for buildings would decrease, but depreciation rates for short rate assets would increase significantly. 

Depreciable Intangible Assets

There are proposals to change the definition of depreciable intangible property so that certain intangible properties will be depreciable without having regard to whether it can be used for tax avoidance purposes. 

Residential Rental Properties

The IRD are concerned that there is an element of tax advantage for investment in residential rental properties and buildings more generally.  The concern has been raised that the current method of calculating depreciation leads to accelerated depreciation deductions on buildings and also that residential property owners are claiming separate deductions for different parts of a building such as electrical wiring, plumbing, carpets and internal walls etc.   To combat this the IRD have proposed two options a follows:

1.       A list of separately depreciable assets will be identified as is the practice in Australia .  Various assets that are currently being depreciated such as wiring, plumbing and internal walls will be excluded from the list.   It will be up to the taxpayer to obtain a market valuation of the depreciable assets at the time of purchase

2.       All assets will be depreciated as part of the building at the proposed depreciation rate of 2%.   The IRD argues there would be advantages to the taxpayer as no valuations would be required and there would be a wider scope for repairs and maintenance deductions on a go forward basis.

The IRD have invited submissions on the Paper.

WHAT HAPPENS IF YOU DON’T GIVE YOUR IRD NUMBER TO YOUR BANK OR EMPLOYER?

Your IRD number is the link between Inland Revenue and your bank or employer. If you don't provide your IRD number to your bank or employer they are required to deduct tax at the no-declaration rate. This is presently 45% on salaries and wages, and 39% on interest.

ARE YOU OVERDUE IN FILING YOUR 2004 INCOME TAX RETURN?

We suggest you contact ourselves quickly  if you have  not as yet provided your records for the processing of your 2004 Income Tax Returns.            This will enable you to ascertain your tax position, pay any taxes on due date, and meet your IRD filing requirements.    We are pleased to assist you in this service.